News Tone, Investor Sentiment, and Liquidity Premium
41 Pages Posted: 24 May 2021
Date Written: May 22, 2021
Using textual media tone as investor sentiment measure, we find that in China, firms with a more pessimistic (optimistic) news tone lead to more (less) active trading, higher (lower) depth, or spread. This negative (positive) effect of investor sentiment on trading activity or stock liquidity is robust to controlling other firm characteristics and macroeconomic conditions. We observe that the liquidity premium is significant in China, which is more pronounced across firms with an optimistic sentiment. Additionally, we decompose liquidity into the sentiment-driven and non-sentiment-driven (NSD) components and find that the NSD premium is declining. This decline stems from a higher sensitivity of sentiment to liquidity. Besides, we also find that NSD premium performs better following high economic policy uncertainty and low growth of margin trading and stocks with low shareholdings of institutional investors.
Keywords: investor sentiment, liquidity, expected stock returns
JEL Classification: G12, G14, G32
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